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1.0 1.1 1.2 1.3 1.4 Introduction Objectives Heads of Income Meaning of salary Incomes forming part of Salary 1.4.1. Basic Salary 1.4.2 Fees, Commission and Bonus 1.4.3 Taxable Value of Cash Allowances Summary
1.5
1.0 INTRODUCTION
Income means a receipt in the form of money or moneys worth which is derived from definite source with some sort of regularity or expected regularity. These definite sources of income are salaries, house property, business or profession, capital gains and any other source. If an income is not derived from any of these sources, it is not taxable under the Income Tax Act, 1961 (hereinafter referred as Act). For example, if a person finds a purse containing Rs.1000 on road, it is not treated as income since it is not received from any definite source. We have also learnt that scope of total income is determined with reference to residential status of a person i.e. total income of each person is based on his residential status. Once we know what incomes of a person are taxable, then we need to know how to compute total taxable income according to the provisions of Income Tax Act. The incomes are classified into various heads. This is devoted to the first and most important head of income Salaries. It is divided into various sections. First we define the concept of salary income i.e. what are the characteristics, which make an income fall under this head. Then, incomes falling under this head are enumerated, followed by the detailed descriptions of income tax provisions regarding three of these incomes. Income under the head salary comprises of remuneration in any form (including perquisites) received by an employee from employer. Thus, there should be contractual employer-employee relationship. The contract may be express, oral or implied.Salary is chargeable on due or receipt basis. Arrears of salary paid or allowed are includible if not charged to income tax for any earlier previous year [section 15 of Income Tax Act] Salary includes wages , dearness allowance , Bonus , gratuity , annuity or pension , advance of salary ,Fees / Commissions perquisites/ profits received from employer in addition to salary , Leave encashment while in service , Employers contribution to provident fund in excess of 12% of salary of employee , profit in lieu of salary [section 17(1) of Income Tax Act]
1.1 OBJECTIVES
To understand: Classification of salary income into various heads. Concept of salary income Incomes forming part of salary The computation of basic salary in grade system Types of commission an employee can get The concept of allowances Various income tax provisions for computing taxable value of allowances Computation of taxable value of allowances
It may be noted here that an income belonging to a specific head must be computed under that head only. If an income cannot be placed under any of the first four heads, it will be taxed under the head Income from other sources. Certain expenses incurred in earning incomes under each head are allowed to be deducted from its gross income according to the provisions applicable to that specific head. Then, the net income under various heads is aggregated together to compute gross total income of the person. After making certain deductions which are allowed from gross total income (relating to certain expenses incurred or payments made or certain incomes earned) we arrive at the figure of total income for taxation purpose.
Although, all the components of salary income are included in salary, there are certain incomes in each of these categories, which are either fully exempt or exempt upto a certain limit. The aggregate of the above incomes, after the exemption(s) available, if any, is known as Gross Salary. From the Gross 33 Salary, the following three deductions are allowed under Section 16 of the Act to arrive at the figure of Net Salary: 1. 2. 3. Standard deduction - Section 16 (i) Deduction for entertainment allowance Section 16 (ii) Deduction on account of any sum paid towards tax on employment Section 16(iii).
1.4.1 BASIC SALARY All employees are entitled to a basic salary which is fixed as per their respective terms of employment either as a fixed amount or at a graded system of salary. Under this graded system, apart from the basic salary at which the employee will start, annual increments to be given to the employee are pre fixed in the grade. For example, if a person is employed on 1st May, 2004 in the grade of 12000 300 15000, this means that he will start at a basic salary of Rs.12000 from 1st May, 2004. He will get an annual increment of Rs.300 w.e.f. 1st May, 2005 and onwards every year on the same date till his basic salary reaches Rs.15, 000. No further increment is given thereafter till he is promoted and placed in other grade. Note: Advance Salary, if received in previous year for next year is taxable on receipt basis in the same previous year.
Illustration 1.1: X joins service in the grade of Rs.12000 300 13800 400 17800 on 1st June, 1999. Compute his basic salary for the previous year 2005-06. Solution: For the previous year 2005-06, basic salary of X will be calculated as follows: 1st June 1999 31st May 2000 1st June 2000 31st May 2001 1st June 2001 31st May 2002 1st June 2002 31st May 2003 12000 1st June 2003 31st May 2004 1230 1st June 2004 31st May 2005 0 1st June 2005 31st May 2006 1260 0 1290 0 27,000 1, 38,000 1, 65,000 13200 13500 13800
Basic Salary for April and May 2005 (Rs.13500 x 2) Basic Salary for June 2005 March 2006 (Rs.13800 x 10) Basic Salary for previous year 1.4.2 FEES, COMMISSION AND BONUS
Any fees or commission paid or payable to an employee is fully taxable and is included in salary. Commission payable may be at a fixed amount or a fixed percentage of turnovers. In both the cases, it is taxable as salary only when it is paid or payable by the employer to the employee. When commission is based on fixed percentage of turnover achieved by employee, it is included in basic salary for the purpose of grant of retirement benefits and for computing certain exemptions that we will discuss later on. 1.4.3 TAXABLE VALUE OF ALLOWANCES Allowance is a fixed monetary amount paid by the employer to the employee (over and above basic salary) for meeting certain expenses, whether personal or for the performance of his duties. These allowances are generally taxable and are to be included in gross salary unless specific exemption is provided in respect of such allowance. For the purpose of tax treatment, we divide these allowances into 3 categories:
I. Fully taxable cash allowances II. Partially exempt cash allowances III. Fully exempt cash allowances
(vi) Deputation Allowance When an employee is sent from his permanent place of service to some place or institute on deputation for a temporary period, he is given this allowance. It is fully taxable. (vii) Overtime Allowance When an employee works for extra hours over and above his normal hours of duty, he is given overtime allowance as extra wages. It is fully taxable. 36 (viii) Fixed Medical Allowance Medical allowance is fully taxable even if some expenditure has actually been incurred for medical treatment of employee or family. (ix) Servant Allowance It is fully taxable whether or not servants have been employed by the employee. (x) Other allowances There may be several other allowances like family allowance, project allowance, marriage allowance, education allowance, and holiday allowance etc. which are not covered under specifically exempt category, so are fully taxable.
If an employee is living in his own house and receiving HRA, it will be fully taxable.
Illustration 1.2: Mr. X is employed in A Ltd. getting basic pay of Rs.20, 000 per month and dearness allowance of Rs.7, 000 per month (half of the dearness allowance forms part of salary for the purpose of retirement benefits). The employer has paid bonus @Rs.500 per month, Commission @1% on the sales turnover of Rs.20 lakhs, and house rent allowance of Rs.6, 000 per month. X has paid rent of Rs.7, 000 per month and was posted at Agra. Compute his gross salary for the assessment year 2006-07 Solution: Computation of Gross Salary Basic Salary (Rs.20,000 x 12) Dearness Allowance (Rs.7,000 x 12) Bonus (Rs.500 x 12) Commission (1% of Rs.20,00,000) House Rent Allowance (Rs.6,000 x 12 Amount exempt Rs.53,800) Gross Salary: Amount / Rs. 2,40,000 84,000 6,000 20,000 18,200 3,68,200
Amount of HRA exempt is least of 3 amounts: 1. 2. 3. 40% of Salary (Rs.2,40,000 + Rs.42,000 + Rs.20,000) Actual HRA received (Rs.6, 000 x 12) Rent paid (Rs.7, 000 x 12 10% of salary Rs.30, 200) Amount of HRA exempt is = Rs.3,02,000 = Rs. 72,000 = Rs. 53,800 = Rs. 53,800
(ii) Entertainment Allowance This allowance is first included in gross salary under allowances and then deduction is given to only central and state government employees under Section 16 (ii). (iii) Special Allowances for meeting official expenditure Certain allowances are given to the employees to meet expenses incurred exclusively in performance of official duties and hence are exempt to the extent actually incurred for the purpose for which it is given. These include travelling allowance, daily allowance, conveyance allowance, helper allowance, research allowance and uniform allowance. (iv) Special Allowances to meet personal expenses There are certain allowances given to the employees for specific personal purposes and the amount of exemption is fixed i.e. not dependent on actual expenditure incurred in this regard. These allowances include: a) Children Education Allowance This allowance is exempt to the extent of Rs.100 per month per child for maximum of 2 children (grand children are not considered). b) Children Hostel Allowance Any allowance granted to an employee to meet the hostel expenditure on his child is exempt to the extent of Rs.300 per month per child for maximum of 2 children. c) Transport Allowance This allowance is generally given to government employees to compensate the cost incurred in commuting between place of residence and place of work. An amount uptoRs.800 per month paid is exempt. However, in case of blind and orthopaedically handicapped persons, it is exempt up to Rs. 1600p.m. d) Out of station allowance An allowance granted to an employee working in a transport system to meet his personal expenses in performance of his duty in the course of
running of such transport from one place to another is exempt upto 70% of such allowance or Rs.6000 per month, whichever is less.
This allowance is usually paid by the government to its employees being Indian citizen posted out of India for rendering services abroad. It is fully exempt from tax. (ii) Allowance to High Court and Supreme Court Judges of whatever nature are exempt from tax. (iii) Allowances from UNO organisation to its employees are fully exempt from tax. Illustration 1.3: (based on different allowances received by employee) From the following particulars, compute gross salary of Mr X for the assessment year 2006-07. He is employed in textile industry in Mumbai at a monthly salary of Rs.4000. He is entitled to commission of 1% on sales achieved by him, which were Rs.10 lakh for the year. In addition, he received the following allowances from the employer during the previous year: 1. Dearness Allowance Rs.2000 per month which is granted under terms of employment and counted for retirement benefits. 2. Bonus Rs.32000 3. House Rent Allowance Rs.1000 per month (Rent paid for house in Mumbai Rs.1200 per month) 4. Entertainment Allowance Rs.1000 per month 5. Children Education Allowance Rs.500 per month 6. Transport Allowance Rs.1000 per month 7. Medical Allowance Rs.500 per month 8. Servant Allowance Rs.200 per month
9. City Compensatory Allowance Rs.300 per month 10. Research Allowance Rs.500 per month (amount spent on research Rs.3000)
Solution: Computation of Income from Salary of Mr. X for the Assessment Year 2006-07 Amount / Rs. Basic Salary 48,000 Dearness Allowance 24,000 Commission 10,000 Bonus 32,000 House Rent Allowance 5,800 (Rs.1000 x 12 Amount exempt Rs.6200)* Entertainment Allowance 12,000 Children Education Allowance 3,600 (Rs.500 x 12 Amount exempt Rs.100 x 2 x 12) Transport Allowance 2,400 (Rs.1000 x 12 Amount exempt Rs.800 x 12) Medical Allowance (fully taxable) 6,000 Servant Allowance (fully taxable) 2,400 City Compensatory Allowance (fully taxable) 3,600 Research Allowance 3,000 (Rs.500 x 12 Amount exempt Rs.3000) Gross Salary: 152,800 * Amount of HRA exempt is least of 3 amounts a) 50% of Salary (Basic Salary + DA granted under terms of employment + Commission based on percentage of turnover Rs.48,000 + Rs.24,000 + Rs.10,000 = Rs.82,000) = Rs.41,000 b) Actual HRA received : Rs.1000 x 12 = Rs.12,000 c) Rent paid (Rs.1200 x 12) 10% of Salary (Rs.82,000) Rs.14,400 Rs.8,200 = Rs.6,200
1.5 SUMMARY
1. Heads of Income: There are 5 heads of income into which income of persons can be divided namely Income from salary, house property, business or profession, capital gains and other sources. 2. Meaning of Salary: Any remuneration paid by an employer to an employee in consideration of his services is called salaries. It includes monetary value of those benefits and facilities, which are provided by the employer and are taxable. 3. Income forming part of salary: They include basic salary, advance salary, fees, commission, bonus, taxable value of cash allowances, perquisites and retirement benefits. 4. Allowances: These are of three types (a) Taxable Allowances: Dearness allowance, Medical allowance, Servant allowance, Warden Allowance, Family allowance, City Compensatory allowance etc. (b) Allowances exempt upto specified limit: House rent allowances, Entertainment allowance, Certain Special allowances, etc. (c) Fully exempted allowances: Foreign allowance, sumptuary allowance to High Court / Supreme Court Judges, Allowances from U.NO.